Investors have a perennial problem in trying to evaluate the security of an investment in a bank or a company. Depending on their attitude to risk they can accept losing money on some investments but they cannot tolerate losses on their “certainties”. Of course, in truth, there can be no such thing as certainty in investing. In Ireland over the years, many investors have held long-term holdings in the likes of Bank of Ireland; CRH and Smurfit – primarily for their dividends but also because they were viewed as “steady eddies” – capable of maintaining their value over many decades. Unfortunately, within the last decade Bank of Ireland lost some 90% of its value and cancelled its dividend payment – while Smurfit and CRH suspended dividends for a period.
So-called credit rating agencies like Moody’s, Standard & Poor’s and Fitch are in the business of poring over company data in order to analyse their strength. Unfortunately, the marks they score for each company are labelled differently, which leads to great confusion, but their explanations of what each score means are quite consistent.
The listing below provides a summary of the different credit rating categories designated by the three main credit rating agencies. All of these categories, in declining order, qualify as “investment grade”.
|Credit Rating Agency Opinion
Securities and Issuers that are viewed as suitable debt investments for market investors. In general terms it is used to broadly identify categories of debt and issuers with relatively high levels of creditworthiness and credit quality
Extremely strong capacity to meet financial commitments
Very strong capacity to meet financial commitments
|Strong capacity to meet financial commitments, but somewhat susceptible to adverse economic conditions and changes in circumstances
|Adequate capacity to meet financial commitments, but maybe more subject to adverse economic conditions
|Considered lowest investment grade by market participants
So should investors be happy to treat all investment-grade listings as safe? Studies from credit rating agencies show that higher credit ratings are consistent with fewer company defaults. Additionally, investment-grade rated businesses tend to exhibit greater rating stability when compared to non-investment grade companies. This all seems straightforward – no guarantees; no certainties but, at least, investment grade is better than lower grades and, say, AAA is safer that A.
But recent research from the US shows that almost 50% of the investment grade companies are rated BBB. This implies that investors simply relying on the notion that “investment grade is safe” should be mindful that some 50% of the companies are rated slightly above the BB category, which is described as:- Issuers that are considered to have an ability to repay debt but face high levels of uncertainty, which could increase the likelihood of default or a general failure to meet its debt and repayment obligations. Ouch!